Proceedings of the Standing Senate Committee on
Banking, Trade and Commerce
Issue 7 - Evidence - April 2, 2014
OTTAWA, Wednesday, April 2, 2014
The Standing Senate Committee on Banking, Trade and Commerce met this day, at
4:55 p.m., to study the use of digital currency.
Senator Irving Gerstein (Chair) in the chair.
The Chair: I want to mention to the members that I would appreciate it
if you would be good enough to remain for about five minutes in camera at the
conclusion of the meeting.
Today the committee is holding its third meeting as part of its study on the
use of digital currency. The committee began its study last Wednesday with an
appearance by officials from the Department of Finance, followed on Thursday by
two members of academia, both of whom have worked in the areas of private and
This afternoon the committee will be receiving a presentation from the Bank
of Canada. We are pleased to welcome Grahame Johnson, Chief, Funds Management
and Banking; and Lukasz Pomorski, Assistant Director, Funds Management and
Thank you both for being here today. We apologize for being a little late in
My understanding, Mr. Johnson, is that you will start with an opening
statement and Mr. Pomorski will follow with a technical briefing on digital
Mr. Johnson, the floor is yours.
Grahame Johnson, Chief, Funds Management and Banking, Bank of Canada:
Thank you, Mr. Chair. Both Lukasz and I would like to thank all the committee
members for the invitation to speak today. It is a subject that we both find to
be complex but fascinating. As you know, the bank was asked to provide you with
a briefing on digital currencies and we are happy to be here today to do so.
In discussing digital currencies, it might be helpful to put them in the
context of advances in the payment system more broadly. Given that, I'll start
by providing an overview of recent innovations and developments in payment
systems and the role of the Bank of Canada. Then my colleague, Lukasz Pomorski,
will provide you with more technical details about digital currencies and the
needs they serve.
Our briefing today is intended to provide some background on what e-money is
and how it is evolving. While we will introduce some of the policy issues that
the broad adoption of e-money could raise for the Bank of Canada, it is
important to stress that our research in this area is still very much a
work-in-progress and many, if not all, of the policy issues remain open
questions. We would, however, be pleased to return to this committee at a later
date and speak to the policy questions in more detail once our work is further
As anyone who has visited the Currency Museum at our previous location on
Sparks Street will know, systems of payment have evolved over time to meet the
needs of the society they serve. Within this context, we can see that digital
currencies, or e-money and similar innovations, are part of this broader
Before I discuss some of these innovations, I would like to start with some
basic definitions about what exactly it is we mean by "money." Money serves
three functions. First, it's a generally accepted medium of exchange. You can
change your Canadian dollars for a coffee or a sandwich, for example, and the
person who sells you the coffee can in turn use the money received to buy other
goods. This general acceptance is a critical that money needs to play.
Second, it serves as unit of account. The dollar helps us to compare the
value of different goods, for example, the cost of a Tim Hortons coffee compared
with a Starbucks coffee.
Third, it can be used as a store of value. You can deposit your dollars in
your bank account and then be confident that when you withdraw them, they still
will have a similar value in terms of the goods or services that they can
We are all very familiar with money in the traditional sense, that is to say
coins and bank notes. When we talk about Canadian dollars we usually have
Canadian bank notes in mind. These notes, once paper and now polymer, remain
popular among Canadians; the value of notes in circulation has been growing at
more or less the same pace as the economy over the past two decades. So, despite
a growth in electronic payments, cash is still important.
Important, but not always convenient. Carrying bank notes to pay for
purchases, especially for transactions that have a relatively large value — like
buying a refrigerator or a car — can be impractical. There is also the risk of
loss or theft. Over the years, innovations in payment systems have addressed
many of these problems.
In the modern financial system, people typically store their money as
deposits in commercial bank accounts. This money is denominated in state
currencies and issued by regulated financial institutions through lending and
the creation of demand deposits; that is, accounts that allow people to access
their money on demand. Demand deposits are a medium of exchange and can be
transferred from one account holder to another. Cheques were an early innovation
that facilitated such transfers. They save us the hassle of going to the bank to
withdraw large sums of cash.
Since the introduction of cheques, we have seen a number of other
technological advances that allow the transfer of account balances between
people and between people and businesses. These innovations include such things
as debit and ATM cards, phone banking, Internet banking and mobile banking, all
of which we refer to as access devices; that is, they provide access to our
demand accounts, but they are not money per se.
I should also mention the innovation of the credit card, which we use to
transfer funds from our credit account at a bank. Again, credit cards are access
devices in that they provide us access to lines of credit.
For our discussion, we will refer to such access devices as electronic
payments or e-payments. We continue to see innovation in e-payments. More
recently, for example, we've seen the introduction of contactless debit and
credit cards. These are the tap-and-go cards that you may have seen. Such
improvements are driven by the evolving needs and expectations of consumers but
also by advances in technology. Importantly, e-payments are the domain of banks
and other deposit-taking institutions that are subject to prudential regulation.
From e-payments I will move to the main topic of our presentation: e-money.
In contrast to e-payment technology, e-money is actual monetary value that is
stored on an electronic device. This could be a computer, a mobile phone, a
tablet, a chip card or even a server, in a cloud. It has a monetary value in a
state currency, often from an issuer who assumes a liability for that value. In
this way it's different from e-payments that don't have that intrinsic value
but, rather, provide access to funds in a bank account.
Lukasz will provide you with a much more detailed analysis of what e-money is
and what the main types of e-money are, but e-money was developed and is growing
for reasons that are related to both demand and supply.
On the demand side, online commerce has clearly created the need to be able
to transact over long distances using telecommunication technology. While
existing e-payment methods such as credit cards can and clearly are used for
such online transactions, they carry with them a number of potential
disadvantages, for example, inconvenience and, in the case of credit cards, the
need to share a relatively large amount of information every time a transaction
occurs. There are relatively high fees. Again in the case of credit cards,
merchants get charged for every transaction, particularly for small-value
transactions that can be prohibitive. Certainly, cross-border transactions or
international remittances are expensive. Finally, there are potential security
risks, many associated with the amount of information that needs to be
On the supply side, there are things such as advances in technology, the
growth of the Internet and the widespread adoption of technology such as mobile
devices and smart phones, which give people the means to use these new payment
products offered by technology companies. We now have firms such as PayPal, for
example, that allow users to pay over the Internet without giving a full amount
of personal information to the merchant with every transaction. E-money can also
make payments more efficient and cheaper, especially across borders.
While e-payments are facilitated by regulated financial institutions offering
new ways for individuals and businesses to transfer money, e-money itself is
often issued by unregulated institutions. These include new players in the
payments landscape: telecommunications companies, information processers and
even, in some cases, social networks.
While banks still provide payment services, they often seek partnership with
non-banks in providing innovative payment products such as mobile payment.
How important are these innovations to the Canadian economy? A 2009 study
conducted by the Bank of Canada showed that two particular innovations,
contactless credit cards and stored-value cards, accounted for three per cent of
the number of transactions and about two per cent of the dollar value of all
transactions. This relatively small share may have increased over the past few
years, and the bank is currently updating this research.
Moreover, the Canadian Payments Association estimated that there were 24
million transactions of various e-money products in 2011, worth nearly $10
billion, up from $3 billion in 2008. These figures likely capture only a subset
of all e-money transactions as the CPA tracked only e-wallet products and
peer-to-peer transactions. Over the same period, the annual growth rate of these
types of payments in terms of volume has averaged close to 40 per cent.
Despite this growth, there are relatively fewer e-money products in Canada
relative to some other countries. Some of you may remember Mondex — although
neither of us do — which was a stored value card that appeared in the mid-1990s
but failed to get traction. This seems to suggest that Canadians are relatively
well served by the existing methods of payment and existing methods of e-payment
systems in particular.
In contrast, consumers in countries with retail payment systems that are not
as well developed need to seek out alternative methods of payment. This leads to
e-money innovations such as the mobile system M-Pesa in Africa or multi-purpose
prepaid cards such as the Octopus card in Hong Kong.
E-money addresses important consumer needs but also raises potential risks
and challenges. At present such risks have the largest impact on individual
consumers and businesses rather than on the overall Canadian economy or
The most significant risk posed by e-money is probably inadequate user
protection. This could include insufficient or inadequate information about a
new payment service provider, especially about terms and conditions, fees or
dispute settlement procedures. Moreover, users may not fully appreciate the
potential privacy issues associated with these means of payment since some
e-money providers have business models that depend on advertising revenue
derived from sharing personal information about users.
Other e-money developments provide relative anonymity which entails
additional risks such as money laundering and terrorist financing issues. I
believe our colleagues from the Department of Finance, who appeared here last
week, have discussed these aspects of e-money in a little more detail.
The Bank of Canada has several reasons to be interested in e-money
developments. The bank designs, produces and distributes Canada's banknotes. One
potential impact of recent developments in e-money is that they may lead to
changes in the demand for cash. There are at present about $63 billion worth of
banknotes in circulation and the bank invests the proceeds of issuing these
notes in Government of Canada bonds. These bonds are held on the bank's balance
sheet and generate interest income, which we refer to as seigniorage revenue.
This revenue is used by the Bank of Canada to pay our expenses and the balance
is remitted to the federal government. In 2013 this seigniorage revenue was
roughly $1.6 billion and the remittance to the government was about $1 billion.
Furthermore, the financial assets of these government bonds that we hold on
the bank's balance sheet help support the bank's various mandates, including our
monetary policy and financial stability functions. A substantial decrease in the
demand for cash would mean a commensurate increase in the financial assets on
the bank's balance sheet. This would, in turn, lead to reduced revenue for both
the bank and the federal government. Furthermore, the lower level of financial
assets held on the balance sheet might also have other effects on the bank's
ability to do the work we do. Given that the demand for cash has been relatively
stable over the past number of decades, these risks at present appear to be
The bank also has an interest in promoting safety and efficiency in the
payment system. We work with other authorities in this area, and given the
bank's responsibilities under the Payment Clearing and Settlement Act, we are
collaborating with the Department of Finance to conduct a governance review of
the payment system. This work addresses the oversight and governance of the
national payments, clearing and settlement infrastructure and includes
alternative payments technology.
Studying e-money and its implications for central banks is clearly a
strategic priority for the Bank of Canada. The bank's research efforts in this
area are focused on deepening our understanding of electronic money and payments
as digital alternatives to cash, and analyzing the implication of an increased
use of these alternatives for how the bank fulfills its mandates to provide
secure banknotes, to promote financial stability, and to control inflation.
Our research will inform a number of important policy questions. These
include: Should the Bank of Canada have a role as an issuer or operator of
e-money? Could the broader adoption of e-money pose financial stability
concerns? If so, how can these be best mitigated? What is the appropriate
regulatory framework for e-money? Could increased reliance on e-money
potentially have implications for monetary policy?
As I mentioned at the beginning, it is important to stress that our research
in this area is very much a work-in-progress, and the issues I've raised remain
open questions. Given the public interest and the importance of the topic,
however, the bank intends to share its research with the public through a new
section on our website dedicated to this subject, and the bank sees e-money
within a broader continuum of payment system innovation. As with any innovation,
looking back at where we have been is a lot easier than looking ahead to
determine where we're going. With a solid research agenda and by monitoring and
assessing e-money systems, the bank is committed to building our understanding
so we continue to meet our mandate to promote the economic and financial welfare
I will now turn it over to Lukasz for an in-depth explanation of e-money.
Lukasz Pomorski, Assistant Director, Funds Management and Banking, Bank of
Canada: Let me start by saying that e-money is difficult to define. When you
talk to people about it, multiple terms are used almost interchangeably:
e-money, e-cash, digital money, digital currency, virtual currency and so on.
The problem is that people would use these terms with sometimes very different
meanings. We'll talk about that. Then we'll talk about whether and how e-money
could potentially satisfy the roles of money and currency, as we understand it,
in terms of a medium of exchange, a unit of account and a store of value.
As Grahame explained, e-money is monetary value stored on an electronic
device, either a computer, mobile phone, tablet or chip card.
To analyze it more deeply, I would like to divide e-money into two
categories: One is centralized e-money, that is, e-money that is issued and
often managed by a central issuer who often assumes liability for the e-money;
and decentralized, that is, based on a dispersed network of users, with no one
user recognizing the e-money as his liability.
I will begin with centralized e-money. Centralized e-money is monetary value
stored on an electronic device that is issued upon receipt of funds and accepted
as a means of payment by entities other than the issuer.
This definition is used not only by us but also by multiple other
institutions, for example, the European Central Bank or the Bank for
International Settlements. The critical feature of centralized e-money is that
it has a particular issuer who has liability for its value.
As an example, consider prepaid payment cards, for example, those issued by
Visa or MasterCard. Consumers who are using these cards could use the card
potentially to obtain a particular good or service from the issuer directly.
They might use the card for goods and services provided by a third party — for
example, a merchant — who will subsequently be reimbursed by the issuer. Lastly,
the consumer might also be able to redeem the value of e-money perhaps using an
ATM, and the cash will be subsequently reimbursed by the issuer to the bank.
Another important and key feature of centralized e-money is that it is
multipurpose. Prepaid cards that are used for a particular store or coffee chain
wouldn't qualify for that.
To give you an example of a very popular centralized e-money device, I would
like to talk about the Octopus card, which is very popular in Hong Kong. The
Octopus card is a contactless card that is prepaid and was originally issued by
the Hong Kong mass transit system. Over time, the Octopus card has become more
generally accepted by retailers, and nowadays people use it to make other
purchases, not only transport. Value on the Octopus card is prepaid and it
becomes a liability of the issuer. It can be used to make payments at a wide
range of retail and transport venues, which satisfies multi-purpose criteria.
I would like to contrast the Octopus card with a similar card that we have in
Canada, the PRESTO card. The PRESTO card is used for transport services in
multiple municipalities in Ontario. At present, the acceptance of a PRESTO card
is limited to the transport system. You can use it to pay for rides but not
necessarily to make purchases for coffee, newspapers and so on.
When we compare the PRESTO and the Octopus card, there's an interesting
question: Why did the Octopus card, quite similar to PRESTO, gain widespread
adoption in Hong Kong and is used for a variety of purposes, whereas in Canada
it's used almost exclusively for transport?
In Hong Kong, since the 2000s, consumers have been using the Octopus card not
only for transport but also for small transactions. In Canada, this is not so.
One reason is that in Canada, contactless debit and credit cards are already
filling this economic need, this niche.
One last point that I want to make on the topic of centralized e-money is
that sometimes when you talk to people about that, they would mention
centralized digital currencies that are issued by particular Internet companies,
for example, Facebook or Amazon, or used within some computer game systems, for
example, World of Warcraft. Those currencies are actually centralized in the
sense of being issued and controlled by a particular company.
We would argue, however, that they don't really qualify as e-money. The key
reason why not is because they are intended to be used exclusively within those
platforms and communities. They are in no sense generally accepted as a medium
of exchange, as means of payment, and hence don't qualify as e-money.
Having talked about the centralized variety of e-money, let us move on to
decentralized e-money and start with highlighting some of the key differences.
The main difference is that for decentralized e-money there is no formal
issuer. There is no central bank, financial intermediary or Internet platform.
E-money is decentralized over a peer-to-peer computer network but directly
links users, in which no one user assumes control for the e-money. Maybe a good
analogy would be to think about an Internet chat room that links users, but no
one user has control over it.
The standard example for decentralized e-money is the bitcoin. The bitcoin
was created in 2009, and since then there have been about 200 other similar
currencies. We call them crypto-currencies, and I will explain why in a second.
Many of them have been created over the last few months, and a few of them have
been since discontinued.
As the best-known example of decentralized e-money, most of my remaining time
will be focused on the bitcoin, and I will close by illustrating similarities
and differences between the bitcoin and other crypto-currencies.
Until the creation of the bitcoin, so until 2009, the very idea of
decentralized e-money was theoretical, and multiple specialists would argue that
it's unsolvable, that it's only a theoretical construct that couldn't be
implemented in practice. The biggest problem there was the issue of double
spending. Let me explain why.
Suppose we develop a crypto-currency or digital currency that I would like to
sell to Grahame. As I send this electronic record to Grahame, the first thing he
will need to do is verify that this record is authentic or valid. This step is
relatively straightforward and there are some tools in information technology
that allow for this step. In a sense, it's similar to taking a banknote and
verifying it's not counterfeit.
Problems will arise when I try to convince Grahame that this record I'm
sending to him has not yet been sent to somebody else before him. How do I
convince him I have not already sent information — the money I'm sending to him?
This is not an issue for banknotes, because once you spend them, they're gone;
you cannot spend them twice.
Moreover, when we talk about centralized e-money, it's not an issue either.
That's because there is a centralized issuer who keeps a ledger that summarizes
who holds how much of a currency, and it's continually updated with
With bitcoin and some of the decentralized currencies, this ledger is shared
on a peer-to-peer network, and because of cryptographic tools the network uses,
its validity is trusted despite the absence of a trusted third party — an
From the point of view of technology, being able to spread the trust across a
peer-to-peer network was a major innovation. This means there is no single
issuer of bitcoins. The bitcoin itself is nobody's liability and, in particular,
it's not redeemable. Because bitcoin uses cryptographic tools to achieve this,
we call it "crypto-currency."
There is a lot more to learn about the technical aspects of bitcoin and
similar currencies, particularly the cryptographic tools they use. We understand
that you will be hearing from an expert in information systems engineering who
will be better able to provide you with this information.
For our talk, we would like to focus on the question within our field of
expertise, starting with whether bitcoins and, by extension, other
crypto-currencies can satisfy the functions of money. We would also like to
discuss how innovations such as bitcoin might contribute to improving the
efficiency of our payment systems, while raising some issues for policy makers.
As we saw in the discussion of centralized e-money, there were some cases
where it met the criteria of money: It was a medium of exchange, a unit of
account and had a store of value. Again, one of the key examples would be the
Octopus card in Hong Kong.
How does decentralized e-money such as bitcoin hold up? We would argue that
bitcoin and other crypto-currencies fall short of a definition of money and do
not satisfy the functions of money, at least at present. First, for bitcoin to
be currency, it would need to be generally accepted and it would need to be a
medium of exchange. While there may be some potential here, it's not quite there
We do see that the bitcoin network allows and facilitates transfers of
bitcoin users. We also see a growing group of retailers — some of them global —
that allow purchases in bitcoin. Our search of bitcoin-related enterprises
reveals that there are anywhere between 100 and 200 retailers in Canada who
accept bitcoins for transactions. Worldwide, all my sources would estimate there
are in the neighbourhood of 15,000 goods and services that can be obtained for
bitcoins. These are perhaps large numbers, but at the same time, in the context
of the overall economy, we would argue that these numbers are not quite enough
to persuade people that bitcoin is at present a generally accepted means of
In terms of a unit of account, bitcoin may have potential but is not quite
there. Even in those cases where bitcoin is a means of exchange, the underlying
value of a transaction seems to be always in terms of a state currency, such as
the U.S. or Canadian dollar. Such value would then be trusted into bitcoins for
the purposes of a transaction.
This is true of most merchants who market themselves as accepting bitcoins.
In practice, such merchants rarely actually receive the crypto-currency.
Instead, they contract with third parties that exchange bitcoins into
international currencies at the moment of exchange of the transaction. An
example of a company that offers such services is bitbay, an Atlanta-based
company that provides the merchant with the option of accepting bitcoins but
receiving the equivalent payment in state currency via bank transfer from
Finally, when it comes to the store of value, here again we would argue that
bitcoin falls short. The key reason is the variability of prices in terms of
international currencies. For example, a recent report estimates the volatility
of the value of bitcoin is about 108 per cent per year. In comparison, it's
about 40 times greater than the volatility of the real value of a U.S. dollar.
To illustrate this, consider that in 2010, bitcoin traded at a third of a
cent per bitcoin. It reached a high of about $1,200 in December. I checked this
morning, and it now trades at about $430 per bitcoin. Imagine you're a merchant
and you're receiving bitcoins for the good and services you provide your
customers. You wouldn't know how much those bitcoins will be worth next week or
next month. A typical merchant wouldn't be comfortable to accept a medium of
exchange that varies in value so much.
There's an anecdote that illustrates this. An unfortunate soul in 2010
exchanged 10,000 bitcoins for two pizzas worth about $30 at the time, and the
bitcoins were worth a third of a cent per bitcoin. In today's exchange rates,
those 10,000 bitcoins would be worth $4.3 million, making those two pizzas
This volatility of bitcoin means that customers who store value in bitcoin
are exposing themselves to a lot of variability and a great deal of risk in
terms of what the savings could be worth, even in a relatively short period of
time, like a week.
Because of these reasons, some would argue that crypto-currencies such as
bitcoin are perhaps better understood and characterized as speculative
investments rather than as a source of value worth a division of money. Some
experts and some of our peers such as the Bank of England and Bank of Finland
would suggest bitcoin is more similar to a commodity than a currency.
I want to spend a little more time on the store-of-value aspect, because the
price volatility of bitcoin and other crypto-currencies signals an important
difference between them and state currencies issued by banks. Many
crypto-currencies have delegated the management of the money supply to
algorithms. In bitcoin's case, the money supply is growing at a pre-specified
rate. It will eventually level and remain constant forever after.
This fixed supply is at least partly responsible for the volatility of
bitcoin in the presence of viable demand. In contrast, one of the key roles that
central banks play is maintaining the price stability in terms of state
currencies and specifically preventing price volatility of the type we are
seeing in bitcoin.
One of the tools that central banks have to achieve this goal is changing the
supply of a state currency. This wouldn't be possible for bitcoin. Arguably, it
was a feature that was attractive to some of the users of bitcoin, but we would
argue it is a feature that has a negative consequence of contributing to price
volatility. This volatility makes it difficult for bitcoin to be a reliable
store of value and, consequently, a currency.
So if we argue that crypto-currencies at present don't really satisfy the key
functions of money, why are they so popular? Why do we have them?
First, crypto-currencies may help reduce the cost of initial intermediation.
Because they are decentralized, crypto-currencies sidestep the high cost of
facilitating and processing electronic payments. That mediation is often
expensive and too high for smaller-value payments to be processed, and this
effectively limits the scope of e-commerce to higher-value transactions.
Another related feature that some consider positive is the irreversibility of
payments. This allows crypto-currencies to look more like cash and allows
merchants to accept payments for transactions without the risk that these
transactions will be later reversed.
These two features, avoiding potentially costly intermediation and enforcing
irreversibility of payments, could allow crypto-currencies and bitcoin, for
example, to serve an important niche in the digital economy, and specifically
for micropayments. Think about payments for individual songs over the internet
or individual pictures. Such payments are too low to warrant merchants'
investments in payment infrastructure or to justify the fees from existing
instruments such as credit cards.
Finally, there's another feature of bitcoin's design that is attractive
again, at least to some consumers, and that is the high degree of privacy, or to
be technical, pseudonymity that bitcoin offers.
Transactions in bitcoin are publicly available, but at the same time, they do
not reveal the transactor's true identity. Again, this feature was meant to make
bitcoin more similar to cash and cater to consumers who value their privacy.
However, as with cash, there are disadvantages of allowing such anonymity.
As we have seen, bitcoins can be stolen or defrauded from the owners.
Moreover, the novel features of bitcoin, such as anonymity, irreversibility of
transactions, makes it professionally attractive to people who are interested
in, say, trading illicit substances or professional money laundering,
particularly over the Internet.
I believe our colleagues from the Department of Finance have already
discussed some of these issues with you.
As I said earlier, bitcoin is the cryptocurrency we hear about the most
often, but there are many others. Some of these have different features that try
to improve perceived shortcomings, while others just copy the original formula
under a different name.
I will give you a few examples. One such cryptocurrency, litecoin, was
developed in 2011, largely based on bitcoin's specification. Some changes were
introduced to try to improve the speed of transaction confirmation, the
settlement, and the size of the total money supply was increased fourfold
compared to the bitcoin. At present, litecoin is the second most popular
cryptocurrency in terms of market capitalization.
A perhaps more interesting example is peercoin. This cryptocurrency is much
less popular than bitcoin or litecoin, but it offers some distinctive new
features. First, there is no hard limit on the total number of peercoins.
Instead, the money supply will increase by one per cent per year. Second, the
newly minted peercoins are partly awarded to users who do some particular tasks
within the system, much as in bitcoin or litecoin, but also to existing holders
of peercoin. Roughly speaking, if you hold one per cent of peercoins, your stake
entitles you to one per cent of newly minted peercoins. You may perhaps think
about this as a dividend accruing to existing stakeholders.
Finally, another cryptocurrency called the ripple, is a good example of how
quickly e-money is developing and how fluid the concepts and definitions are.
Ripple is based on technology similar to bitcoin, and thus is often referred to
as a cryptocurrency. However, it is controlled by a third party, Ripple Labs,
which issues the currency — in Bitcoin lingo, the ripple is pre-mined.
Importantly, Ripple Labs refers to the ripple as a "payment system, currency
exchange, and remittance network" rather than money as in a generally accepted
means of payment. This payment system is meant to allow users to trade a range
of currencies, including other cryptocurrencies, remit money, et cetera, making
it more of an e-payment system than e-money, strictly speaking.
Beyond these few cryptocurrency examples, there are perhaps 200 others. Most
of them have a relatively small consumer base, and a few are all but defunct
after a brief spike of interest.
In closing, any discussion of e-money needs to take a balanced view of the
weaknesses and potential risks of these innovations and economic benefits. These
benefits arise from payment needs that e-money satisfies. As long as the needs
are there, even if bitcoin or similar crypto-currencies ultimately fail, other
payment innovations will rise to replace them.
One thing that history has shown us is that changing consumer needs, changing
technology, will be reflected in innovations in payment systems. Such
innovations may well be based on the technology that is similar to that
underlying bitcoin. They may be implemented not only in a decentralized fashion
like bitcoin but perhaps also incorporated into products or services offered by
private companies or maybe even governments.
Now, the payment landscape is changing rapidly, both in Canada and around the
world, with a number of innovations, participants and systems. At the Bank of
Canada, we cannot predict the exact direction that this innovation will take.
However, what we can do is assure the committee that we'll continue our efforts
to monitor developments and assess implications. We will share our findings with
Canadians through publications on our website.
Thank you very much.
The Chair: Thank you, Mr. Johnson and Mr. Pomorski, for your opening
presentations. They were very helpful.
We have just over 35 minutes left for questions. I have a long list of
questioners, so I will ask that you keep your questions sharp and to the point.
Senator Bellemare: Thank you for your presentation. As you know we
began studying the bitcoin because we are interested in cryptocurrency. We
understood that there were some differences, as you explained, between e-payment
methods and cryptocurrency.
My question relates to conversion. As compared to other methods of payment,
the innovation of the bitcoin and similar currencies is very much linked to the
possibility of conversion, but at the same time that is what causes it to
fluctuate, and that is what makes this currency very volatile.
We also see that this payment method is used quite a bit, with the
globalization of e-commerce and Tesla, and we wonder why Tesla. Would a country
that exports a lot of goods and would like to encourage global transactions have
an interest in starting production and promoting digital money like bitcoins? It
could be called something else and in a way offer a certain guarantee to allow
its convertibility and prevent the volatility of the currency. Is that something
we could think about? And what do you think about it, as a representative of the
Bank of Canada?
Mr. Johnson: I will make a couple of points. Generally, those
countries that are active in global trade would support advances that make
cross-border international payments faster, more secure and cheaper. That would
tend to facilitate this.
I should stress that at this stage these methods of payment are largely
person to person. Obviously, a lot of exporting is business to business with a
reseller buying from a supplier — one business buying from another business to
resell. There has been relatively little in the way of crypto-currency activity
in that. Letters of credit are quite important for global trade. There's no
credit in crypto-currencies, making trade difficult. A very good question about
the price volatility, as Lukasz pointed out, is that at this stage it's one of
the key things that stands to make bitcoin and other crypto-currencies not fully
meet the definition of "money."
In order to mask the volatility, you would need to control the supply of the
money. If you have a given supply of goods or a given level of economic activity
that fluctuates and you want to keep the price level constant, the amount of
money needs to fluctuate. I would say that the Bank of Canada and most other
central banks have set an inflation target as a way to achieve that. We will
manage the money supply, as such, and the interest rate to keep the value of the
Canadian dollar relatively stable in terms of goods.
That is contrary to the very foundation of a crypto-currency with a fixed
supply. As in bitcoin, that's impossible. By definition, if the level of
economic activity in trade fluctuates but the supply of crypto-currency does
not, you will have volatility. That's certain and significant.
Senator Bellemare: Do you not think that the speed of circulation of
that currency could increase? Could we not see a situation where the speed of
bitcoins might differ from the circulation rate of ordinary currency?
Mr. Johnson: Yes, it certainly could be, but not a monetary thirst.
The velocity of money is extremely volatile and difficult to predict. It can
move around rapidly and lead to large fluctuations in the relative price of
goods in a certain currency. The price of goods denominated in bitcoin is
extremely volatile, and part of that would be rapid changes in the velocity.
Mr. Pomorski: I would add to that. I would always try to look at the
underlying economic needs that the currency might serve. I agree with you that
perhaps the greatest needs are actually at the level of remittances or sending
money abroad. To the extent that people are not satisfied with the current
offering of economic services, they might gravitate to services such as
crypto-currencies. To the extent that crypto-currencies can provide lower fees
for these services, they might be adopted eventually.
I want to make two points that I think are important. First, if you develop a
system to cater to this need for remittances, then this is more a payment system
than a currency. You're not issuing a currency; you're providing a service for
this particular need. In fact, one of the examples that I mentioned was ripple.
The designers of that system were specifically identifying the area of
international remittances as one of the key features of their business model. At
the same time, they were very clear that what they have is not currency; it is
not money. They provide a way to send money abroad cheaply, maybe more cheaply
than other methods. In this sense, I think similar innovations may have a role,
but it wouldn't be a role of currency.
Senator Hervieux-Payette: You spoke earlier about M-Pesa in Africa,
and about Octopus, in Japan. You say that this method is used by countries that
have a less developed system. Can you tell us more about that? What do you mean
by a less developed system?
Mr. Johnson: Could you repeat that question?
Senator Hervieux-Payette: In your presentation you talked about a
system in Africa that is called M-Pesa and about a system in Japan that is
called Octopus. You say that this method of payment or transaction is more
useful for less developed systems. Less developed as compared to what? We have a
developed system and so we would not need it, whereas other systems could
benefit? Could you explain to us where we are located in that system, developed
Mr. Johnson: We referred to systems. Canada is a very good example in
this regard of a country with a very well-developed payment system with
technology that is provided by major institutions. It is very good. I don't know
the number exactly but a huge percentage of Canadians are what we call "banked,"
i.e. they have bank accounts with large institutions. When you're banked, you
have things like debit cards, credit cards and this method of payment.
In Africa, for example, a very small percentage of the population has a bank
account. A payment system such as M-pesa helps to accommodate in that you don't
need a bank account. You can load monetary value on M-pesa and use that as a
means of exchange.
I mentioned the tools that give access to your demand deposit to exchange. If
you do not have a demand deposit, if you're in a country that's not well banked,
an access tool does you no good; so you need a store of monetary value.
As for the Octopus card, I'll turn to Lukasz.
Mr. Pomorski: The point I was making is that the Octopus card was
designed specifically for the mass transit system. Within a few years, it gained
widespread adoption across a variety of retail establishments, not only transit.
Since then, there were two similar innovations, one in the U.K. with the Oyster
card, and one in Canada with the PRESTO card. Technologically, they are very
similar. You can store value on them and potentially use the value not only for
rides on a transit system but also for purchases.
Somehow in Hong Kong these cards became used for a variety of purposes, but
in both the U.K. and Canada they haven't and are used almost exclusively for
transport. I would interpret it this way: As Grahame said, we already have a
payment system that caters to the needs that such cards might satisfy. For
example, debit and credit cards allow you to pay for coffee or a newspaper in
the blink of an eye. Perhaps in Hong Kong those new devices were competing for
people looking for this convenience, whereas in Canada that niche was already
Senator Hervieux-Payette: People pay for the transportation card in
Canada. This is what we use for a monthly transit pass. Money is involved in
Mr. Pomorski: I agree. The key difference is that we're using a PRESTO
card only for this one use. I would go back to the defining feature of money as
being "generally accepted." If you're using this card for only one service, I
wouldn't call it money. In Hong Kong, it's actually used for a broad range of
As other examples, we could talk about stored value cards issued by
Bridgehead or Starbucks. These cards are used exclusively to buy coffee or
whatever else you buy at Bridgehead or Starbucks. They're not used outside the
Air Miles can be used for a variety of services, in particular for airplanes
but also for goods specifically from one provider. You cannot take your Air
Miles card and go to Walmart to buy goods. Because of this, the Air Miles card
would not qualify as money. These cards are not generally accepted means of
Senator Black: You've been very helpful in advancing our study. My
line of questioning this afternoon will focus on opportunities that might flow
from this innovation. I would start by asking if you would agree with me that
bitcoin is an innovation, not the endgame.
Mr. Johnson: Yes, I would agree with that. I think we would agree with
Senator Black: And you would agree as well?
Mr. Pomorski: Yes.
Senator Black: From that point of view, then, how might we in Canada —
and we will get specifically to your role in my next question — be able to
harness the positive aspects of these currencies while mitigating downfalls? Can
you offer your views on that, please?
Mr. Johnson: Again, coming back to a distinction we made in the
opening remarks and one Lukasz made, to use bitcoin as an example, there's a
difference between the big "B" Bitcoin which is the network. That is, this
underlying technology that allows verifiable payments without a trusted third
party to go very cheaply, which really was quite a material breakthrough in
computer science, in my understanding at least. Then there is small "b" bitcoin,
which is the currency that it uses right now.
I think there's no doubt that the payment system technology underlying this
was a material advance, as you said, senator. It is an advance; it is not the
endgame. It showed that what seemed to be unsolvable isn't, so there will be
more work done on this. In terms of payment system efficiency, absolutely these
are good advancements.
The question of how you harness it, while at the same time protecting people,
is one that, quite frankly, we will spend a lot of time on. We have not really
formed solid opinions on that. To date, it is largely a consumer protection
education aspect — even the education of the volatility of the underlying
currency. The price is volatile and it is not broadly accepted. As I said, that
seems to be the biggest issue right now. Quite frankly, it is something that
falls outside of the Bank of Canada's mandate. Again, we will advance our
research on this.
Senator Black: A work-in-progress?
Mr. Johnson: A work-in-progress, much like the system itself.
Senator Black: Absolutely, and that's appropriate.
Can you see a circumstance where the Bank of Canada would issue e-money?
Mr. Johnson: There is a question. The Bank of Canada issues Canadian
dollars under the Currency Act. That is the legal tender of the Government of
Canada and the Bank of Canada is the sole issuer of that, so we issue Canadian
Under the current legal act, we couldn't issue another currency. In terms of
a digital currency, it is not under the current legal framework.
The e-money or e-payment system is different. We currently do not. We could
have made the decision to offer demand accounts to Canadians, which we did not.
We could have made the decision to offer debit cards for those demand accounts
to Canadians, which we did not. The decision, well before either of our times,
was clearly that this level of innovation and scale and customer service was
best left to the private sector in an appropriate regulatory framework. I think
that has served Canadians very well, going back to the fact that we have not
seen a lot of this sort of Octopus card or M-pesa. Canadians are well-served by
their payment system technologies now.
Senator Black: Are you shutting the door to the question?
Mr. Johnson: No. Again, as I said in my opening statement, one of the
key questions we're looking at is this: What is the role of the central bank?
Senator Black: I'm advised that there is something called MintChip.
Mr. Johnson: A great name; mint cookie.
Senator Black: I'm told the MintChip is being developed by the Royal
Canadian Mint as a digital currency backed by the government. Can you comment?
Mr. Johnson: I would actually defer that to the Mint.
Senator Black: You would as well?
Mr. Pomorski: I also would defer that comment. I can tell you that we
are in communication with our colleagues at the Mint who are working on this, or
working on this innovation, but I would be out of line if I were to comment on
this on behalf of the government.
Senator Black: Are my researchers close to right? Do you understand
that that might be the case?
Mr. Pomorski: In terms of the product that was being developed, it was
essentially a centralized e-money development similar to the ones that I was
talking about in my presentation; so you're right. This is one of the examples
of where an institution might go in issuing e-money.
Senator Black: Where Canada might go?
Mr. Pomorski: Yes, where Canada might go. It's certainly a
possibility. It has been evaluated by the Mint, but again I will stop short.
Senator Black: I understand.
The Chair: That's a very good try, senator.
Senator Massicotte: Senator Black, in the last statement you sounded
like a journalist trying to pry something out of somebody.
We are not experts, and several of our discussions are aimed at allowing us
to learn a bit more about the nature of bitcoins and that type of currency.
According to what I have read, I am convinced that this can never become the
national currency. If only in terms of monetary policy, why would the government
lose control over one monetary policy?
As a currency, as a means of exchange, does it have any usefulness? There are
a lot of them in circulation. We are told that it costs very little from the
point of view of issuing the technological message, but it has to be purchased
from an exchange and that currency has to be used to purchase a product; it
costs something. If you buy the currency from someone, it is relatively
expensive; I checked that out this afternoon. And when you add that fee to the
product, there are so many variations in its value that you may think you are
saving money, but on the contrary, you have paid 5 per cent or 10 per cent more
because it is not recognized, and you do not know that. And, there is something
else, regarding the high degree of privacy; we were advised that that is not the
case. As with Internet, you can check. So what is its future utility? It is
popular currently, there is a way of marketing it to suppliers, but what is our
role? Do the government and the Bank of Canada have a moral obligation to
protect those who own some? What are your comments on that?
Mr. Johnson: I think we both said that, in any area, looking into the
future is extremely difficult, especially one this rapidly changing.
You make a good point about the importance that governments place on
maintaining control over money. It's a very valuable tool. Obviously, for the
Bank of Canada it is a very valuable tool for economic management.
In terms of the utility that bitcoin brings, I would again distinguish
between the big "B" Bitcoin payment system and the small "b" currency. As we
have seen, payment systems evolve over time. They generally allow for
transactions to take place simpler, faster and cheaper and there continues to be
a progression along that. This is clearly a step along this road. The
transactions are quite quick, reversible and can be done much more cheaply than
in a lot of other areas that use trusted third party providers. That may well be
the most fertile ground for future work here. What you said about the price
volatility making it difficult as a means of exchange is very true. Lukasz's
example of the $6 million pizza is a good one.
I'll turn to Lukasz in a second, but one reads and hears about these 15,000
merchants, or however many, that accept bitcoins. But they don't really. They
accept it and then instantly turn it into a national currency, such as a U.S.
dollar, a euro or a Canadian dollar, for exactly the reason that you said, sir:
There's zero interest in holding this for even a day because of it.
In effect, people can use the Bitcoin payment network by waiting until the
very last minute. You go online, you wish to purchase something, you wait until
the very last minute to buy your bitcoin, immediately pay with it, and the
vendor immediately turns it back into Canadian or U.S. dollars. You've used the
big "B" Bitcoin network and minimized your exposure to the small "b" bitcoin
currency, which again is a possibility.
We don't have a crystal ball, but these are some of the potential advantages
the system offers.
Senator Massicotte: I'm not optimistic on the small "b" bitcoin. It's
probably because I don't understand it. I agree the technology is phenomenal. It
probably could be used for registration of other assets or even real estate. But
in a small "b" sense, I don't see much of a future. Also, my reading is that 80
per cent of the holders are speculators. It's more of a commodity than a
currency. As you know, income tax wise —
Mr. Johnson: And some have used it that way.
Senator Massicotte: The U.S. and Canada are saying that exactly: It's
Having said that, do we have a responsibility as a government to deflate this
balloon, like China? What do we do? I think Senator Tkachuk said last week that
if 80 per cent are speculators, they have a right to. Why should we care? Why
should we try to protect anybody? It's "buyer beware." People know it's a highly
variable currency, so maybe there is no role for the government other than to
say, "Be very cautious; be careful."
Mr. Johnson: Financial consumer education is an important role. Much
of the interest in bitcoin in the early adoption was — and I know this was
covered in previous sessions — a sort of libertarian view of "get away from
state currencies." Once it started to move, much of the interest did become
speculative. There is nothing wrong with speculation, and I don't think it's the
role of the government to protect anyone from known speculation.
There is an important role of consumer protection at this stage. It is at
least portrayed as a currency, so perhaps it needs to be made clear that this is
not Canadian currency and the Canadian Deposit Insurance Corporation does not
stand behind this; you're not in a bank. Consumer education has a role.
From the Bank of Canada's view in terms of economic and systemic risks, it's
far too small. The amount of bitcoins in Canada is far too small to be
economically or systemically important at this stage. That doesn't mean it won't
become that way. Again, my point is that this is a work-in-progress; this will
evolve. If it gets several orders of magnitude bigger, would the story change?
Potentially, yes, and it again speaks to the fact that we're following this
closely, and it's an activity research agenda item.
The Chair: Are there further questions?
Senator Campbell: Do you think we would be even looking at this if
there hadn't been Silk Road? It sort of captured our attention. It has all the
makings of a great spy movie, but do you really think we would be here if it
wasn't for that?
Mr. Johnson: That's a very good question. Certainly the backstory
behind bitcoin is fascinating, with the "Dread Pirate Roberts," the guy who ran
Silk Road. Even with Mt. Gox and the subsequent collapse there, the backstory is
interesting and certainly makes for good journalistic coverage. It has
Would we be looking at it? We certainly would. The Bank of Canada held a
conference on e-money two years ago, before bitcoin was really in the common
lexicon. This is a material advance in money and payment systems, and it's
something we need to understand. The Bank of Canada has a currency department.
We have been studying alternative means of payment for 30 years, probably even
I had comments about the risks to the bank of demand for cash falling off
precipitously and that this would have impacts on the Bank of Canada's balance
sheet, which would have knock-on effects. These worries existed when credit
cards came out and then when debit cards came out. You could look at it and
wonder if everyone has a credit card and debit card, wouldn't the demand for
cash collapse? It never did. Banknotes outstanding goes up 5 per cent per year
and does so every year, in line with nominal GDP growth. It has for the past
We pay a lot of attention to this; we have paid close attention to every
advancement in the payment system — credit cards, debit cards and automatic
cheque clearing — and we will continue to do so with this.
Mr. Pomorski: I would add that I wouldn't necessarily trivialize
bitcoin or other similar currencies. It's easy to do so —
Senator Campbell: All of a sudden, it went from being off the radar to
reading about it every day.
Mr. Pomorski: I do take your point. Unfortunately, perhaps a lot of
attention is driven by things like Silk Road or colourful names. But at the same
time, I would bring this back to a question. You mentioned regulation and should
we be regulating that innovation. It's always a question of a trade-off. What is
it about bitcoin that we want to regulate? Is there a systemic issue? We don't
see any. So at present, the only dimension is consumer protection. There is also
the other side of the trade-off, which is the gain to our economy and our
consumers who may be using these tools for particular needs and goals.
Let me offer one example on this point. One of the features of
crypto-currencies that are often considered nefarious is anonymity. They are
nefarious for very good reasons. But at the same time, suppose you want to
transact with a merchant based in Poland. I will use this example because I am
of Polish origin. How comfortable would you be to send your credit number and
address to a merchant based in that country? You might not be very comfortable.
It doesn't have to be bitcoin; it could be whatever else. But these developments
have a role in providing a way to transact with a merchant in Poland, say,
without revealing who you are, where you live and what your credit card number
is. Even things like anonymity have a role. Some consumers are looking for that.
Senator Campbell: My second question relates to Octopus. I had an
opportunity to meet with the board of Hong Kong Transit. In Vancouver, we were
looking at this type of card. I brought this up with them about the transit
card. The reason it branched from transit into other areas for them is because
such a high level of the population uses public transit that it is natural to
have this card, whereas in Canada it's not that large.
So transit actually looked forward on this and started with this, but
realized they captured this huge part of the population. Octopus would like to
come to Canada. When we looked at it, we thought it wasn't going to get the
lift. They were clear on that; they had a captive audience, and they were going
to push this card. And it's hugely successful.
The Chair: We will conclude with a very brief question from Senator
Senator Bellemare: I wanted to know, in terms of figures, what the
Canadian money supply is, in billions, as compared to the bitcoin supply.
Senator Hervieux-Payette: Sixty-three, they said that at the
Mr. Johnson: I'm not an expert in money supply, and there are a lot of
definitions of it. I would have to come back to you.
In terms of currency outstanding, it's 63 or 64 billion right now in terms of
banknotes outstanding. In terms of M1 —
Mr. Pomorski: I wouldn't go to M1. I would try to compare apples to
apples if you talk about a specific currency.
Talking about the money supply of bitcoin in terms of U.S. or Canadian
dollars is tricky because those numbers are changing rapidly. As of today, the
money supply of bitcoin is of the order of $7 billion globally, which is 100
times smaller, roughly, than the money supply of cash. So not money supply, but
supply of banknotes in Canada, Canada alone. You may want to add to this the
supply of — if I am correct — $1.2 trillion worth of banknotes that the U.S.
In terms of the importance of bitcoins at the moment in the global system,
it's relatively unimportant, which perhaps explains why we haven't seen, in
terms of a systemic impact, any evidence that it might have an impact at the
moment. It does have an impact for consumers, for individuals who transacted,
often with high risk to their wealth, but not systemically. Not in Canada, and
certainly not worldwide.
Senator Massicotte: Having said that, right now there is a delay of
around 10 minutes for every transaction. It's growing a little bit. Is the
technology even available to do international currency?
Mr. Johnson: There is a delay. Bitcoin is not instantaneous,
obviously. The miners have to verify it, and the ledger has to be updated, and
it can take an hour to do a full chain.
Senator Massicotte: Because you've got to do it all again —
Mr. Johnson: The other thing that advances as quickly is the amount of
computing power devoted to this. I don't think we have it with us, but you can
see graphs that show essentially the hash rate or what is referred to
essentially as the network computing power. This is a peer-to-peer network. Gone
are the days when you could hook your laptop up and mine bitcoins. These are now
special-purpose, dedicated machines that are extremely powerful. More and more
get on the network every day. The amount of computing power devoted to this has
gone asymptotic as well.
I think it has been a bit of a draw so far.
Mr. Pomorski: I would finish off by offering one statistic. At
present, there are about 40 transactions in bitcoin per minute as compared to
maybe 200,000 transactions on Visa alone. I'm not an expert to answer the
question as to whether bitcoin could be, in principle, able to handle that
volume of transactions.
One thing that I would be very careful about is that bitcoin is not the only
innovation. In fact, at least one of the examples that I gave you — I think it
was the litecoin — actually is designed in a way to cut the settlement time to a
The Chair: Most interesting, but our time is coming to an end. On
behalf of all of the members of our committee, I would like to express great
appreciation for your presentations today.
You have talked about the work-in-progress for the Bank of Canada. You can
see it's also very much a work-in-progress for the committee, and I suspect we
will look forward to having you back.
Members of the committee, if I could have you stay for five minutes for an in